A cost-effective approach to attracting low-income countries to international emissions trading:: Theory and experiments

The cost-effectiveness of the Kyoto Protocol and any similar non-global treaty would be enhanced by attracting additional countries to international emissions trading and achieving this as soon as possible. In contrast to what is heard in most of the debate, such an enlargement is here taken to be attained with the new participants, at least to begin with, being fully compensated. This paper focuses on two forms of compensation that can be used to attract poor countries to participate in emissions trading. The theoretical as well as experimental evidence suggests that, if poor countries are more risk averse than rich countries, partial compensation in terms of financial transfers is more cost-effective than relying solely on compensation in kind - emission quotas - as has been the case so far. Using money for partial compensation would also reduce the risk for "hot air" allocations and the ensuing political obstacles to cost-effectiveness that such allocations tend to create.